Australian Economy Essay Example | Topics and Well Written Essays - 2000 words

Australian Economy - Essay Example The prediction was that the central bank of Australia would be forced to bring into play an expansionary monetary policy that would have rates of interest lowered to 2.5% from 4.25% so as to trigger growth. (Foley, 2009) Just before looking at this policy, it is of essence to explain vividly what a monetary policy entails. The situation in the world since year 2008 has been very serious and many economies including North America and Europe experienced a major economic downturn. Generally, the whole world was experiencing one of the most serious economic recessions. Australia as an economy has been said by most economic analysts to have defied this downturn. However, it has been affected as well by this situation, to mention the least. Governments, through their central banks, use both monetary policies and fiscal policies to control the stability and growth of the aggregate economy. This study is about both of these economic policies and more particularly in the context of the Austra lian economy. The study will first tackle each of these policies in general to create an understanding of the same before narrowing down to the Australian situation. Monetary policy will be the first to handle before going on to the fiscal policy. Monetary policies are usually about two major categories. These are expansionary and contractionary monetary policies. An expansionary policy is generally an open-market buying while a contractinary policy is about an open-market sale. An expansionary policy involves lowering of rates of interest while a contractionary policy escalates interest rates. Increased interest rates (contractionary policy) mean that borrowing from banks will be more expensive and thus, there will be minimal borrowing, which reduces currency supply in a given economy. A reduction in interest rates (expansionary policy) means that borrowing from banks will be easier due to the low rates of interest. Thus, this increases currency supply in the economy. Graphs can be utilised to illustrate what has been explained earlier concerning monetary policies. This is as shown below; Figure 1: Monetary policies illustrated in graphs Interest rates S0 S1 Interest rates S1 S0 D D Bank Reserves Bank Reserves Expansionary policy Contractionary policy As shown by the arrows, an expansionary policy involves a lowering of the rates of interest and thus, a rise in the supply of currency while a contractionary policy does exactly the opposite. S0 shows the original currency supply while S1 is the new supply. D is the demand curve for currency. (Baumol and Blinder, 2010 pp270, 271) Despite the criticism by the International Monetary Fund, that Australia was using a bad approach (in year 2010) to the inflation levels by using a monetary policy that was based in inflation targeting, the Reserve Bank of Australia continued using this approach. At this point in time, the bank was applying a contarctionary policy. The Reserve Bank usually targets a range of inflation o f around 2-3% while making these decisions of the monetary policy. It was to utilize the rates of interest so as to slower the overheating of the Australian economy. In 2010, the inflation target ranged between 1-2%. In order to control the condition of the recession effects, the Reserve Bank was applying a